Upgrade to nowhere
Last week’s column looked at the problem of declining trading volume on global stock exchanges over recent years, and especially this year. Let’s continue this discussion by bringing it home to the Tel Aviv Stock Exchange (TASE), where the problem not only exists, but is particularly acute.
The data are clear cut and – I’ll spare you the detailed numbers – they show that turnover on the Israeli equity market shriveled in 2012 much more, in fact about twice as much, than was the case in the world as whole or in the developed markets of Europe and North America. However, as noted so often, it is wrong to cite statistical data out of context and in this particular case, the context is very complex.
First of all, although Israeli trading volume shrank sharply this year, in both relative and absolute terms, its relative performance last year and over the period since the crash of 2008/09, was better than the global average. Taking into account the longer-term picture, in which Israeli turnover soared from 2003 onwards, raises the possibility that this year is an aberration. Also, when comparing Israel’s stock market trading volume to others, a comparison with developing markets seems more apposite than one to developed markets. Finally, and perhaps most surprisingly, the data show that while turnover in equities has indeed plunged, that is definitely not the case in the bond market. On the contrary, bond volumes have risen this year to record levels.
In other words, a fuller review of the data forces one to redefine the question quite radically. It is not merely “why has trading volume in Tel Aviv fallen twice as much this year as has been the case globally?” Rather it is something like “how comes trading volume in Tel Aviv has plunged davka this year, but not previously, and only in equities, but not in fixed income – and is this development significant, or is it likely to prove transient?” Obviously, that is a much more complex question, that is unlikely to have an easy answer.
It should be noted, before proceeding further, that Tel Aviv does not suffer from some of the major problems discussed last week, notably that of HFT – high-frequency trading, in which computers programmed to buy and sell on the basis of algorithms now dominate trading by generating massive amounts of orders, in one or both directions, in miniscule amounts of time. Nor is there the parallel feeling that the local market is systematically manipulated by large institutions, giving rise to a loss of confidence in the entire system on the part of retail investors.
Nevertheless, the retail investor is fading out of the Tel Aviv scene. That much is clear from the systematic decline in assets invested in equity-oriented mutual funds – a phenomenon that does mirror the US experience and is all the more disconcerting as a result. But the source of the problem is probably not to be found among the retail investors, but rather among foreign and local institutions, where it has more to do with insufficient trading activity than with excessive or manipulative activity.
One school of thought believes that the decision by MSCI, the most important company in the field of creating and managing indices of equity or bond prices, to upgrade Tel Aviv from an emerging to a developed market is the root problem. That decision, taken in September 2009 and implemented in May 2010, forced all the managers of emerging market indices to sell out of Tel Aviv – because it no longer matched their mandate. In theory, their place should have been taken by managers of developed market funds, for whom the way was now open to invest in the TASE. However, the very small weight of Tel Aviv in the major league indices – around half a percent – made the effort of analyzing the Israeli market and of picking which shares to buy not worthwhile for many.
Furthermore, MSCI did not know where to put Israel, because indices are usually based on geographic regions — Europe, Asia-pacific, etc.—and Israel could no longer be in the ‘EEMEA’ region, meaning Eastern Europe, Middle East and Africa, as it had been when it was classified as ‘emerging’. There are no other developed markets in EEMEA, so there was no group to join. But, on the other hand, Israel is not in Europe, so MSCI felt it could not be in the Europe developed market index. As a result, Israel is in an index limbo, a situation in which it cannot attract investment from ‘passive’ funds that track indices on the basis of the weightings given to each market in them.
If MSCI could be persuaded to do what the European football , basketball and others organizations have done, and classify Israel within Europe, that part of the problem would be solved. It would probably not be a panacea for all that ails the TASE, but it would do some good and no harm. It would also be good for the investors in those foreign funds that bought into Israel. After all, the record is clear that an investment in Tel Aviv five, ten or twenty years ago would have generated much better returns than in virtually any European developed market.